Offshore drilling (IYE) companies are capital intensive, so looking at their financial leverages is very important.
The debt-to-equity ratio and net debt-to-EBITDA (earnings before interest, tax, depreciation, and amortization) ratio show these companies’ financial leverages. A higher ratio means higher financial leverage and higher financial risk.
Positives and negatives of debt
Debt acts as a lever, magnifying both gains and losses. Companies that have high debt in poor times have a greater chance of going bankrupt, but high leverage can also be positive if those companies survive. Debt has a fixed cost, and with an increase in revenue, profits increase by a higher percentage. Also, issuing debt instead of equity doesn’t dilute shares. The cost of debt interest is a tax-deductible expense, which reduces a company’s tax burden.
The offshore drilling environment remains challenging. Most companies expect this situation to continue for the next year or two. It’s better for companies to try to reduce the debt in their total capital structures.
Seadrill Partners (SDLP) has the highest debt-to-equity ratio at 265%. This ratio has fallen from 282% in the previous quarter. However, its net debt-to-EBITDA ratio of 11.07x isn’t very alarming and is one of the lowest among its peers.
Noble Corporation (NE) has the highest net-debt-to-EBITDA ratio of 41.9x.